How does budget airline AirAsia make money?

One would assume they make money from ticket sales, but the answer is not that simple.

A few days ago, Malaysian low-cost airline AirAsia announced its third quarter business report. Accordingly, net profit reached 353.9 million ringgit, in contrast to a loss of 405.7 million ringgit in the same period last year.

AirAsia is the dominant low-cost carrier in Southeast Asia. If you want to find a quarter where ticket revenue covered operating costs, go back to December 2010. Since then, costs have far exceeded ticket revenue.

If you subtract operating costs from ticket sales, AirAsia will regularly lose money.Even adding baggage fees and other charges doesn’t improve matters much. In fact, AirAsia only breaks even when passengers spend on in-flight meals, pre-booking fees, cancellation fees, and other miscellaneous expenses.

And if you really want to understand where they make their money, it's best to look at them not as an airline, but as a part of the aircraft leasing industry.Revenue from aircraft leasing was also the reason they made a profit in the third quarter.

AirAsia makes no profit from ticket sales. Photo: India Times

AirAsia is the largest Airbus customer among airlines, with 575 aircraft on order, of which 401 have yet to be delivered. This is second only to India’s InterGlobe Aviation, giving AirAsia great power in negotiating prices and customizing aircraft to meet its requirements.

This is their additional source of income. Lessors like General Electric and BOC Aviation don’t get the same discounts as airlines. So when AirAsia feels they have too many planes on their balance sheet, they can sell them to a lessor, lease them back, and record the difference from the original purchase price. This makes them more money than operating the planes.

Of course, AirAsia CEO Tony Fernandes will not miss this attractive opportunity. In August, he said he could sell the aircraft leasing division this December, earning up to 1 billion USD.

This has some benefits. Investors have often been skeptical of AirAsia’s leasing business, especially since many of its deals are not with major leasing companies, but with its own subsidiaries in Indonesia, Thailand, the Philippines and India.

Last year, AirAsia shares lost more than half their value in less than three months after GMT Research published a report criticizing the accounting practices in the deals. However, the stock has recovered and more than doubled this year.

This will help Fernandes pay off his debts and quell the negative news in GMT’s report. Although the airline’s return on equity (ROE) is 26% – similar to other low-cost carriers such as Ryanair and Southwest Airlines – its price-to-earnings (P/E) ratio is less than half that.

Leasing appears less attractive given the capital outlay involved, a situation that will be exacerbated if accounting standards for operating leases around the world change.

As a result, AirAsia’s profits have increasingly relied on non-ticketing revenue in recent quarters to prepare for this change. Operating profit from non-leasing segments in the last three quarters has increased to 642 million ringgit, up from 614 million ringgit three years ago.

This suggests the airline can do well without rental income. But it also means that costs for AirAsia’s customers will have to rise, making it less competitive.

Besides, it also reduces AirAsia's power over Airbus. By selling its aircraft leasing business, they will only be one of dozens of small customers of Airbus.

Bloomberg says transparency and focus are good. But sometimes power is more valuable.

According to VNE